Dynatronics Corporation
Q4 2017 Earnings Call Transcript

Published: 28 Sep 2017

[Kelvyn Cullimore:]

All right. We welcome you this morning to the Dynatronics Corporation Investor Conference Call to review fiscal year 2017 earnings. I'm Kelvyn Cullimore Jr., Chief Executive Officer. Also on the line is David Wirthlin, our Chief Financial Officer. We just filed our 10-K for the fiscal year ended June 30, 2017, and issued an earnings press release. We also announced today our second acquisition this calendar year. We've entered into a definitive agreement with Bird & Cronin, a Minneapolis-based manufacturer of orthopedic soft goods and specialty patient care products. We will also discuss this transaction during the call. Before we begin, as a reminder, during the course of this call, management may make forward-looking statements regarding future events or the future financial performance of the company. Those statements involve risks and uncertainties that could cause actual results to differ perhaps materially from the results projected in such forward-looking statements. We caution you that any such statements should be considered in conjunction with the disclosures, including specific risk factors and financial data contained in the company's most recent filings with the Securities and Exchange Commission, including its most recent annual report on Form 10-K. Today, we're going to talk specifically about the results from the year and quarter ended June 30, 2017, and the acquisition of Bird & Cronin, Inc. When we are through with our presentation, we'll have the operator open up the call for any questions you might have. First, I want to bring you current on the most important event since our last investor call, which we held in May. During our last call in May, we not only discussed the outcomes for our fiscal quarter ended March 31, but we also discussed the acquisition of Hausmann Industries, which closed on April 3, 2017. We are pleased to report that the acquisition of Hausmann has gone very well. As you recall, they are operating as a manufacturing division of the company and continuing to sell through their proprietary dealer network. David Hausmann continues to manage the operations as he has for over two decades. And our sales management team is now working with theirs in a coordinated way, identifying customer synergies, which allows to cross-sell the Dynatronics and Hausmann products. There have been no significant surprises that have arisen. The Hausmann division continues to operate as expected and indeed had a very strong first quarter as part of the combined company. There's been no significant attrition and the morale of the employees is really very positive. Culturally, the acquisition of Hausmann has been a very good fit. In the first full quarter of operations, which was the quarter ended June 30, Hausmann's sales outpaced expectations and continued to perform at levels above forecast. Sales and marketing efforts remain synchronized between the companies, and Dynatronics products have been promoted to the Hausmann customer base. International sales coordinations is another area of cooperation that we've explored, and we are combining our international marketing activities, which is giving us greater exposure at lower costs. We're also focused on procurement synergies in areas such as freight, insurance and financial assistance. Specific contributions by Hausmann to the quarter and the year-ended June 30 are outlined in our report on Form 10-K. This morning, we announced that we have signed an asset purchase agreement to acquire the assets of Bird & Cronin, Inc. Bird & Cronin is a Minnesota company founded in approximately 1970, that designs and manufactures orthopedic soft goods and specialty patient care products. These products are sold in the United States and internationally under proprietary and private label brands. Annual sales for the last three years have averaged approximately 24 million. For the trailing 12 months ended June 30, 2017, Bird & Cronin generated estimated pretax profits of approximately 2.1 million and adjusted EBITDA in the range of 2.4 million. Our pro forma consolidated financials will be filed as part of an 8-K filing associated with the closing, which is projected in the next week. The purchase price for Bird & Cronin is 14.5 million to 15.5 million in cash and securities, subject to adjustment. At closing, the sellers will receive 4 million of our Series D preferred stock and $10 million in cash. 1.4 million of which will be held back, to satisfy any purchase price adjustments and indemnification claims if any. We'll release the holdback, net of claims, half at 12 months and half at 18 months after closing. Two years from the closing date, an earn out payment will be made based on milestones achieved in that interim period. That payout will be between 0.5 million and 1.5 million on the second anniversary of the date of closing. We'll fund the cash portion of the acquisition with approximately 4.5 million of borrowings under our asset lending credit facility, that we will amend concurrent with closing of the transaction and with approximately 5.5 million in proceeds from a private placement of our Series C preferred stock. Closing of the acquisition is expected to occur on October 2, concurrent with the closing of the private placement and funding of the amended credit facility. Following the closing, we will operate the Bird & Cronin business unchanged at its Minneapolis facility, which we will lease from an affiliate of the principal shareholder of the company. We expect all employees of Bird & Cronin to become Dynatronics employees at closing. The company has also entered into employment agreements with the co-presidents of Bird & Cronin, Michael Cronin and Jason Anderson, who will act in the same positions as co-presidents of the division after the closing. In connection with this closing, we are modifying our credit facility with Bank of the West to provide asset-based financing to the company to be used for funding the acquisition and for operating capital. The credit facility will increase from 8 million to 11 million and will continue to be subject to a borrowing base calculation. Maturity date will be extended to two years from the date of the amended note. Other terms will remain the same, including interest at LIBOR plus 2.25% and an unused line fee of 0.25%. And we conducted a private offering of our equity securities to raise up to $7 million. Closing of the private placement will occur simultaneously with the closing of the acquisition. In the private placement, we offered and sold shares of our series C 6% convertible non-voting preferred stock and common stock purchase warrants to a limited number of accredited investors. Certain of our officers and directors and significant shareholders are investors in the private placement. Each share of Series C preferred is convertible into common stock of the company automatically upon but not before receiving shareholder approval. The warrants may not be exercised until shareholder approval, after which, they may be exercised purchase one share of common stock at a price of $2.75 per share. Pursuant to the acquisition, we also issued to the sellers our Series D 6% non-voting preferred stock. The Series D preferred does not include any common stock warrants. Like the Series C, the Series D preferred is convertible into common stock of the company automatically upon shareholder approval. The common stock underline the preferred C and preferred D as well as the Series C warrants and will be subject to a registration statement the company intends to file on Form S-3 in the coming weeks. On our 2017 Annual Meeting of Shareholders we held in late November, early December, we will seek shareholder approval in various matters, including the conversion of Series C and Series D preferred to common stock. We encourage you to read our 10-K, which includes more details regarding these transactions as well as our 8-K filed today that contains exhibits of the relevant documents more or less of the transaction. With this acquisition, combined with the acquisition of Hausmann in April, we believe we have taken significant steps in executing our strategy to grow, not only organically but by acquisitions. This is consistent with the plan we laid out for our team and our investors two years ago concurrent with the investment by pruning with partners in our company. We believe Bird & Cronin is an excellent fit put on [indiscernible] that Hausmann was. We are impressed with their management team, their products, their reputation in the market and their positive operating results. With the addition of Hausmann and Bird & Cronin, we will be operating an annualized run rate of approximately $65 million to $70 million in sales. This compares to $30 million reported on our 10-K last year. More importantly, we believe the addition of these two acquisitions will put us in a cash positive operating position. And I'll make more comments regarding the acquisition in my closing remarks. So with that introduction, I would now like to turn the time over to David Wirthlin, our Chief Financial Officer, who will provide a financial report on the fiscal year and the quarter ended June 30, 2017. David?

[David Wirthlin:]

Thank you, Kelvyn. I will provide some additional detail and color to the press release that was issued this morning. There are a few significant factors that had a material impact on our operating results for the year and quarter ended June 30, 2017. First, this was the first quarter in which we consolidated the operating results of our Hausmann operations since the acquisition on April 3, 2017. The addition of Hausmann had a material impact on both the year and the quarter ended June 30, 2017. Second, we incurred a significant legal and accounting fees in conjunction with these acquisitions, mostly related to the acquisition of Hausmann but also some related to other M&A activity, including Bird & Cronin as we began due diligence activities. Acquisition costs were approximately $678,000 for the year and $146,000 for the quarter ended June 30, 2017. I will comment on them further when discussing SG&A costs for the quarter. Thirdly, as we discussed previously, we have made a number of investments in the past 2 years to bolster our executive team and to strengthen our sales and marketing activities. We have hired a number of highly qualified individuals, increasing G&A expenses. We have expanded our sales and marketing reach in the long-term care market. We have initiated a sales training program for all of our sales reps, and we have updated our web presence and have began a digital marketing program. All of these are designed to support a goal of organic sales growth. But the investment precedes the outcomes, and the investment had a material impact on SG&A expenses during the year and quarter. Net sales for the year ended June 30, 2017, increased 17.6% to $35.8 million compared to $30.4 million in the prior year. The $5.3 million increase in sales, primarily consisted of $3.8 million due to the addition of the Hausmann operations in the fourth quarter and a $1.5 million increase in sales and Dynatronics legacy products, which represents 5% growth year-over-year compared to 4.4% growth in fiscal year 2016. Much of the increase in sales of legacy products was attributable to an increase in sales of distributed capital equipment, which is other manufacturers' equipment that we distribute. Much of our growth in distributed capital equipment has been in long-term care markets where we have increased our sales and marketing resources this year. Our sales and marketing initiatives for fiscal 2018 are focused on increasing sales of our proprietary therapeutic modalities and other manufactured products that generate higher gross margin than distribution of other manufacturers' products. Net sales for the quarter ended June 30, 2017, increased 37.3% to $11.2 million compared to $8.1 million in the same quarter of the prior year. The year-over-year sales growth for the quarter came primarily from the addition of the Hausmann operation that contributed $3.8 million in net sales for the quarter. It should be noted that the $3.8 million in sales contributed by the Hausmann products represented a 5% increase over sales in their comparative quarter last year. Legacy products sales were down approximately $775,000 for the quarter, mostly attributable to temporary weakness in demand for our modality products and lower sales of distributed capital products and distributed supplies than experience in the same quarter last year. Gross profit for the year ended June 2017, increased $1.1 million to $11.5 million, an 11.1% increase over last year, representing 32.2% of net sales. By comparison, gross profit for the year ended June 30, 2016, was $10.4 million or 34% of net sales. The increase in gross profit dollars was driven by Hausmann gross profit of approximately $1.1 million, increased gross profit of $492,000 on Dynatronics sales and distributed capital equipment, which increased 21% over the prior fiscal year. This was all partially offset by lower gross profit of approximately $420,000 on other product categories. The year-over-year decrease in gross margin percentage from 34% to 32.2% was in part attributable to the fact that Hausmann products generated gross margin of approximately 28.1% in the quarter ended June 30, 2017. Our Hausmann subsidiary sells primarily to dealers at wholesale and generates slightly lower gross margin percentage but also encourage significantly lower selling costs than much of the Dynatronics legacy business. Another factor impacting gross profit margin was a $315,000 adjustment to inventory to recognize deemed obsolescence in our inventory stock. We had a similar adjustment last year of $150,000. The third factor affecting overall gross margin was the sales mix. Distributed capital products that carry a lower gross margin accounted for a higher percentage of sales during the year, pushing overall gross profit margins slightly lower. Gross profit for the quarter increased 9.7% to 2.9 million, representing 26.3% of sales, compared to $2.7 million or 33% of sales for the quarter ended June 30, 2016. Some of the factors that affected gross profit margin in the quarter were the same as affected gross profit margin for the year

[Kelvyn Cullimore:]

Thank you, David. One thing I wanted to clarify as well related to the Series C preferred that we are issuing is that non-insider holders of the Series C may opt not to convert automatically after shareholder approval. Subject, however, to beneficial ownership limitations and a loss of preferences such as the dividend and preferred liquidation preferences. So that is one clarification I failed to make earlier. Clearly, the big story for this reporting period is our successful implementation of our acquisition strategy. We don't want you to get too comfortable with the fact that we are doing an acquisition with every call here. We have been able to string together two, and they are two significant acquisitions in the six-month period. While that is not a case we are likely to maintain, that does reflect our commitment and significant effort that has been dedicated to this strategy over the last two years. And we are very pleased with the Hausmann acquisition. Hausmann transaction has gone very smoothly and customers have responded favorably. It's particular strengthened our presence at athletic training market where Hausmann enjoys a significant advantage, with the products they have sold in that market for so many years. We are equally excited about our announcement of the acquisition of Bird & Cronin. We plan to close that acquisition next week. We're delighted to welcome the Bird & Cronin organization, distributors and customers to Dynatronics. Through this combination, we'll be able to provide a broader array of solutions to our customer base, and Bird & Cronin is an excellent strategic fit for Dynatronics as it brings a financially-attractive company with products complementary to those we already manufacture. With our broad distribution platform, we have the opportunity to expand Bird & Cronin's products into the physical therapy private practice market, athletic training and chiropractic markets. We have a deep respect for the Cronin family and the reputation they've built over their 45-year history. We look forward to welcoming Mike Cronin and Jason Anderson and other Bird & Cronin employees to the Dynatronics family. As previously mentioned, Bird & Cronin's annual sales have been relatively stable over the past several years at around $24 million. However, their profitability has more than doubled due to management initiatives implemented when Mike and Jason took over management of the company. That management was thrust upon them when the legacy founder of the company, Mr. Cronin, unexpectedly passed away in 2014. We recognize that any acquisition creates both disruption and opportunity. With that said, we'll manage this important acquisition very conservatively. Like we have done with Hausmann, we'll be operating the Bird & Cronin business with the objective of minimizing disruption. Our primary objective will be to continue serving Bird & Cronin customers, driving consolidated revenue growth and enhancing the value of our combined franchise. We will be very deliberate in identifying and executing on strategies we identify over the first year of operations. We expect to have consolidated positive cash flow for all of Dynatronics, and we will continue to drive towards increasing EBITDA and cash flow from operations. We believe this transaction creates many opportunities to improve the combined operations. However, we have no plans to do any significant integration in the immediate future. We will operate both Hausmann and Bird & Cronin as mostly, standalone manufacturing operations for the foreseeable future. A sure preservation of the successful business model under which each has been operating. Looking forward, with the inclusion of Hausmann for all of fiscal 2018 and Bird & Cronin for three quarters of fiscal 2018 and taking into account a conservative view of the first combined operating year, we expect consolidated revenues for our fiscal year 2018 to be in the range of 63 million to 67 million, and continue to be optimistic that the combined Dynatronics, Hausmann, Bird & Cronin business will grow top line revenue in the mid-single digits thereafter. We expect our going-forward consolidated gross margins to be in the 33% range, and SG&A to be about 30% of sales. The acquisition will impose some additional costs related to the amortization of intangible assets and depreciation as well as increased interest to service the debt incurred to facilitate the acquisition. We expect consolidated noncash charges to be approximately 1.25 million. Also, we will incur transaction expenses during the current quarter related to the acquisition. We expect that Bird & Cronin to continue to generate strong cash flow from operations as well as the substantial contribution to consolidated profits. We will provide additional details on the financial impacts of Bird & Cronin after the deal closes and after a combined quarter of results are published. In terms of seasonality, Bird & Cronin has historically been fairly even through the year. Dynatronics strongest quarter has traditionally been our second fiscal quarter ended December 31. Hausmann's strongest quarter has historically been the quarter ended September 30. The weakest quarter for both Hausmann and Dynatronics has typically been the quarter ended March 31. So we expect seasonality in overall businesses to be somewhat exacerbated by the Hausmann acquisition and somewhat neutralized by the Bird & Cronin acquisition. In closing, through improved sales management, new product introductions, geographic expansion, both domestic and international and expansion in the post-acute care markets, we're able to grow the business organically through the fiscal year at a rate of about 5%. Additionally, we have made significant investments in key personnel to position the company to be more scalable for growth. The changes have been significant and required investment in the business as we recognize and augment the company's management and employee base. We believe we have made good progress in this effort but expect to make strategic personnel investments as our revenues continue to grow. In this regard, during the year, we hired Cyndi McHenry to function as our Vice President of Operations; and David Wirthlin, as our Chief Financial Officer. As well as adding experienced executives like David Hausmann, Mike Cronin and Jason Anderson from our acquisitions. We also experienced managed top grading of our operations in both Tennessee and Utah and hired sales personnel integral to our strategic plan. These investments are done with an eye toward implementing our strategic plan for organic growth and growth through acquisitions. Our acquisitions of both Hausmann Industries and Bird & Cronin are important milestones in the implementation of our strategic growth plans. To demonstrate our resolve to execute on this element of our growth plan, we will continue to identify and act on additional acquisition opportunities that will further enhance our product offering and distribution coverage and leverage our current sales network to improve gross profit margin. It is important to note that approximately half of the equity financings for both the Hausmann acquisition and the Bird & Cronin acquisition was provided by legacy investors associated with Prettybrook Partners. We believe this is an indication of those investors' continued confidence on our long-term growth plans. It's noteworthy that previous owners of both Hausmann and Bird & Cronin are significant shareholders in Dynatronics. They're taking a stake in the continued success of the combined operations. Additionally, we have been successful in attracting new institutional investors by Ladenburg Thalmann in connection with both transactions. Our credit facility with Bank of the West is another important development. The relationship we established as we close the Hausmann acquisition positioned us to expand the credit facility as part of the significant portion of the Bird & Cronin transaction and provide working capital to the consolidated company. We are well positioned with the bank to continue doing these types of transactions. Finally, we recognize the need to continue our investor relations efforts to better alert the market to our strategic growth objectives and performance. To that end, we'll participate in corporate investor conferences, plan to hold discussions with key investment analysts. Fiscal 2017 has been an exciting and very productive year. I want to conclude by thanking all our shareholders, both the new and old, for their support and input. The management team of Dynatronics is committed to serving our customers with safe and effective products, building our business through organic growth and acquisitions and enhancing shareholder value. Without the support of our shareholders, none of these will be possible. With that, Jennifer, we will open the line for questions. And Jennifer will give instructions on how you can ask your questions, and David and I will be available to respond.

[Operator:]

Thank you, sir. [Operator Instructions] Nobody in queue as of yet, sir.

[Kelvyn Cullimore:]

Well, we probably started the call pretty early, and we must have just done a great job of giving explanations here, but let's give them a minute to see if there's additional questions.

[Operator:]

[Operator Instructions] And we'll hear from [Dave Scirleson].

[Unidentified Analyst:]

Just one brief question from me. The commentary around the slowdown in the therapeutic modality business being temporary, what gives you confidence that, that's a temporary phenomenon?

[David Wirthlin:]

Yes. Thanks, Dave. We are seeing a pickup in sales since the fourth quarter, and we have our sales and marketing team focused on the therapeutic modality. So we have confidence that, that was just a temporary slowdown in the fourth quarter.

[Unidentified Analyst:]

Got it. And then one final follow-up question in terms of the revenue guidance range between $63 million and $67 million, what factors would drive the business to be towards the higher end versus the lower end?

[David Wirthlin:]

Kelvyn, do you have some thoughts on that?

[Kelvyn Cullimore:]

Yes. We are obviously being fairly conservative because we don't have any direct experience with the Bird & Cronin operating unit as of yet. And so we're being conservative in that. But we believe there are factors in the legacy operation and in the Hausmann as well as Bird & Cronin that could combine for that, including the sale of Bird & Cronin products through our particular distribution network. So leveraging our network will help us to move towards the higher end of that particular spectrum.

[Operator:]

No further callers in queue at this time, sir.

[Kelvyn Cullimore:]

Okay. Well, we appreciate everybody being on the call today. We know that some of us was a little short noticed to get the call out. But you can see there are many moving parts that were taking place to prepare for this call to time it so that we could announce the Bird & Cronin acquisition simultaneous with the 10-K. This call will be available on our website. For those who were not able to join the call and be able to listen to it later if you would like to remind yourself of the items that we discussed. And as always, we are available to answer questions that may come up after this call that you may think of. Again, we are thrilled to be able to present this information today as it relates to the activities of the past year, and specifically, the activities recently of the acquisition of Bird & Cronin. And we look forward to having even more productive calls in the future. So thank you for being on the call today, and have a great day.